What Is Chapter 7?
Bankruptcy is a serious business, so you need to understand it clearly. Chapter 7 ofTitle 11 in the U.S. bankruptcy codecontrols the process of asset liquidation.A bankruptcy trustee is appointed to liquidate nonexempt assets to pay creditors; after the proceeds are exhausted, the remaining debt is discharged. There are eligibility requirements to file Chapter 7, such as the debtor must have had no Chapter 7 bankruptcy discharged in the preceding eight years and the applicant must pass a means test. This process is also known as “straight” or “liquidation” bankruptcy.
Key Takeaways
- Chapter 7 bankruptcy allows liquidation of assets to pay creditors.
- Unsecured priority debt is paid first in a Chapter 7, after which comes secured debt and then nonpriority unsecured debt.
- Filing Chapter 7 typically involves completing forms and a review of assets by the trustee.
Understanding Chapter 7 Bankruptcy
In Chapter 7 bankruptcy, the absolute priority rule stipulates the order in which debts are to be paid.Under this rule unsecured debtis separated into classes or categories, with each class receiving priority for payment. Secured debtis debt backed or secured bycollateralto reduce the risk associated with lending, such as a mortgage.
Unsecured priority debts are paid first. Examples of unsecured priority debtsare tax debts, child support, and personal injury claims against the debtor. Secured debts are paid next. Last is the payment of nonpriority, unsecured debt with funds remaining from the liquidation of assets.If there are not sufficient funds to pay the nonpriority unsecured debt, then the debts are paid on a pro-rata basis.
The Bankruptcy Process Explained
The bankruptcy process consists of the following four steps:
Counseling and Forms
Filers must first undergo credit counseling within six months of filing before they begin the Chapter 7 bankruptcy process. If there is no approved counseling agency in the district, they may forgo this step. Other exceptions may apply depending on the debtor’s circ*mstances.
The applicant must complete several forms, including a petition to the court, to begin the official Chapter 7 proceedings. The forms detail personal information, such as the debtor’s finances, creditors, assets, income, and expenses. After filing the petition, an automatic stay is in effect that prevents creditors from collecting on their debt. The stayalso halts and prevents incomegarnishments.
Trustee Appointment and Meeting of Creditors
The bankruptcy court will appoint an unbiased trustee to oversee the entire bankruptcy process. They will review assets and determine which assets can be liquidated to pay creditors. The trustee then schedules meetings with the creditors, where the validity of the petition and finances is confirmed. As the name suggests, the “meeting of creditors” allows them to meet with the trustee and the debtor to ask questions.
Debt Repayment
The bankruptcy trustee reviews the personal assets and finances of the debtor. Exempt property—or property necessary to maintain basic standards of living—is retained by the debtor. Nonexempt property is seized and liquidated to pay creditors. Property exemptions vary in each state. However, in many cases debtors are allowed to keep their primary home, personal possessions, and car. The trustee then oversees the liquidation of all other property.
The Coronavirus Aid, Relief, and Economic Security (CARES) Act, signed into law by the president on March 27, 2020, excludes coronavirus-related relief aid from the calculation of a debtor’s current monthly income for the period of one year for pending bankruptcy cases.
Discharge of Remaining Debt
Most debts are discharged under a Chapter 7 bankruptcy.The discharge ofdebtwill release the debtor from any personal liability for payment. Once a deficit is discharged under Chapter 7, the creditor may no longer seek future restitution from the creditor.Obligations relating to alimony, child support, some government debts, income taxes, and federal student loansare not allowable for release during bankruptcy. The law is very restrictive on discharging money owed for income taxes and student loans. The United States Bankruptcy Code lists 19 categories of debts that are not dischargeable. In most instances filers receive a discharge approximately two months after the meeting of creditors.
Serious Ramifications
There are definitely negative consequences to bankruptcy, which is why debtors should be sure it is right for them. Creditors may attempt to recover debt after discharge, even though they have no right to it (so it’s important to retain bankruptcy documents, as duplicates can be costly). The instance of bankruptcy will appear on credit reports for 10 years from the filing date, seriously damaging the debtor’s ability to get loans.Also, a person cannot file and receive a subsequent Chapter 7 discharge within eight years of a previous Chapter 7 discharge. It's important to be especially prudent financially after going through Chapter 7.
FAQs
Chapter 7 bankruptcy allows liquidation of assets to pay creditors. Unsecured priority debt is paid first in a Chapter 7, after which comes secured debt and then nonpriority unsecured debt. Filing Chapter 7 typically involves completing forms and a review of assets by the trustee.
What is Chapter 7 and how does it work? ›
Background. A chapter 7 bankruptcy case does not involve the filing of a plan of repayment as in chapter 13. Instead, the bankruptcy trustee gathers and sells the debtor's nonexempt assets and uses the proceeds of such assets to pay holders of claims (creditors) in accordance with the provisions of the Bankruptcy Code.
What are the consequences of Chapter 7? ›
Non-exempt assets could be sold with the proceeds used to pay debt. Those who own luxury possessions probably will lose them. Bankruptcy remains on a credit report for 7-10 years and may affect the filer's ability to borrow in the future. Your credit score will plummet 100-200 points.
What is Chapter 7 bankruptcy best described as? ›
Chapter 7, also known as liquidation, allows individuals or businesses to give up nonexempt assets and walk away from most debts. To qualify, debtors must pass the means test — their income must be less than their state's median income.
What are three negative cons aspects of filing Chapter 7 bankruptcy? ›
However, there are several consequences to consider before you proceed.
- Loss of Property. With Chapter 7 bankruptcy, you'll be required to liquidate some of your assets to repay your creditors. ...
- Credit Damage. ...
- Impact on Others. ...
- Some Debt May Remain.
This chapter of the Bankruptcy Code provides for liquidation – the sale of a debtor's nonexempt property and the distribution of the proceeds to creditors. The keyword here is ”nonexempt.” Essentially, this means you will be able to keep most of what you need to get by. However, you may have to give up some property.
What is the downside of Chapter 7? ›
The main cons to Chapter 7 bankruptcy are that most secured debts won't be erased, you may lose nonexempt property, and your credit score will likely take a temporary hit. While a successful bankruptcy filing can give you a fresh start, it's important to do your research before deciding what's right for you.
What assets do you lose in Chapter 7? ›
Chapter 7 bankruptcy is a type of bankruptcy filing commonly referred to as liquidation because it involves selling the debtor's assets in bankruptcy. Assets, like real estate, vehicles, and business-related property, are included in a Chapter 7 filing.
What cannot be wiped out by bankruptcies? ›
Filing for Chapter 7 bankruptcy eliminates credit card debt, medical bills and unsecured loans; however, there are some debts that cannot be discharged. Those debts include child support, spousal support obligations, student loans, judgments for damages resulting from drunk driving accidents, and most unpaid taxes.
What to expect after filing Chapter 7? ›
After you file your Chapter 7 bankruptcy, the Office of the U.S. Trustee will appoint a Chapter 7 Trustee to oversee your case. The Chapter 7 Trustee is a private, impartial individual paid to administer your bankruptcy and liquidate any non-exempt assets in your estate.
Chapter 7 bankruptcy allows liquidation of assets to pay creditors. Unsecured priority debt is paid first in a Chapter 7, after which comes secured debt and then nonpriority unsecured debt.
Is it better to file a Chapter 7 or 13? ›
You Can Keep Property You'd Lose in Chapter 7
However, there's a catch. You must pay its value through the repayment plan. So, if you have nonexempt property you can't bear to part with and can afford to pay to keep it, Chapter 13 bankruptcy might be the better choice.
Is it cheaper to file Chapter 7 or 13? ›
What Is the Cheapest Type of Bankruptcy? Not only are the fees of Chapter 7 bankruptcy lower, but you also end up paying less to your creditors. While Chapter 7 only requires that you pay the value of your liquidated assets, a Chapter 13 bankruptcy could result in you paying far more over three to five years.
Is filing Chapter 7 a good idea? ›
Advantages of filing for bankruptcy
While there are credit risks related to filing for bankruptcy, this process can also be a life saver. If you file chapter 7 bankruptcy, you can get rid of things like overwhelming credit card balances that are eating up your monthly budget.
Is Chapter 7 bankruptcy bad for you? ›
Taken as a whole, it's a difficult process with both advantages and disadvantages. Chapter 7 bankruptcy, in particular, will damage your credit for a little while but also may provide much-needed relief and a roadmap for getting your financial house back in order.
Why should you not file for bankruptcies? ›
Credit Will Be More Expensive and Limited. After declaring bankruptcy, you'll have to work hard to raise your credit score. You will likely face limited access to credit and very high interest rates until you can rebuild your financial reputation.
What can you not do after filing Chapter 7? ›
That being said, here's what you're not allowed to do with a Chapter 7:
- Lie under oath about your financial or property assets.
- Keep property that must be used to discharge your debts.
- Miss payments to certain creditors in order to keep your home.
Of the two options, Chapter 7 is more popular because filers don't have to pay back part of their debts. Chapter 13 may be a better solution if you're in arrears on your mortgage because you can keep your house in Chapter 13 and have time to get caught up on payments.
